JP/New rules on tax deduction of promotional expenses

The Finance Ministry of has recently introduced a new regulation (PMK.02/PMK.03/2010), providing guidelines for all taxpayers on the deductibility of promotional expenses.

The new regulation also revokes an existing regulation which placed a cap on the deductibility of pro-motional expenses for taxpayers in the tobacco and pharmaceutical industries.

This new regulation applies equally to all taxpayers, and introduces an extra administrative requirement for taxpayers who seek to deduct promotional expenses.

Further, it applies with retrospective effect from Jan. 1 2009, and will therefore impact on tax returns currently being prepared by taxpayers for lodgment by the April 30 deadline.

The new regulation considers promotional expenses to be those which are spent in order to introduce customers to a product, suggest the usage of a product to customers, and/or increase/maintain sales.

Specifically, the regulation identifies the promotional expenses which can be deducted as being advertising expenses, product exhibition expenses, new product introduction expenses and/or sponsorship expenses related to product promotion.

Of course the normal rules for deductibility apply and in order to be deductible, such expenses must still be incurred in relation to earning income which is subject to tax.

Is this an exhaustive list of deductible promotional expenses? If so, it could mean that certain kinds of promotional expenditure, (e.g. dealer or distributor incentives), may not be deductible.

Similarly, the focus of the deductible promotional expenditure appears to be “product” oriented, rather than just “brand” oriented.

It remains to be seen whether general brand building promotional expenses will be able to satisfy the deductibility requirements of the new regulation.

For taxpayers in the pharmaceutical and tobacco industries, this new regulation also revokes an earlier regulation (PMK.104/PMK.03/2009), which placed a cap on their ability to deduct promotional expenses.

For these taxpayers, this new regulation would be welcome news, particularly given their levels of promotional expenditure.

Some important issues arise for taxpayers in the tobacco and pharmaceutical industries, given that this new regulation applies retrospectively.

For taxpayers whose financial year ended in December 2009, the removal of the cap on deductions for promotional expenses may result in a tax overpayment position, which would then result in a tax audit.

However, taxpayers with a financial year ending after December 2009 may still be in a position to manage their future installment payments in such a way as to limit any overpayment of tax for the full year.

The new regulation requires a nominative list to be attached to the annual corporate income tax return (CITR), setting out substantial amounts of data regarding the recipient of the payment including the Tax ID and withholding tax slip number (if any).

For most taxpayers, this list of requirements would represent a greater amount of data than is currently being collected in relation to promotional expenses.

In order to be entitled to the deduction, all of the required infor-mation must be included on the nominative list attached to the CITR.

At this time, it is unclear from the new regulation whether the omission of a particular item from the nominative list will result in a permanent denial of a deduction, or whether that item would be deductible upon furnishing the required information.

Since this regulation applies from Jan. 1, 2009, taxpayers should revisit the information they have in respect of their 2009 promotional expenses to determine whether they have the required information, or can obtain it in time for the lodgment of their 2009 CITR.

Going forward, information collection processes and systems should be reviewed to determine whether the collection of the required information is possible and/or worthwhile in relation to the taxpayer’s total promotional expenditure.